Liquid, Price Stable, and Fixed Income Funds as An Alternative to Savings Accounts
Anyone keeping money in a savings account should consider putting that money in a money market mutual fund, short term bond fund term, or other fund designed to be liquid, price stable, and provide a fixed income.
Although there are many different types of funds, and each has different goals and features, the ones I’m talking about are specific types of funds designed to be liquid (easy to get money in and out of), price stable (it is meant to hold a stable price), and provide a relatively high yield (about a 1.5% – 2.5% annual interest rate; something more in-line with Bonds and CDs than savings accounts).
In all cases, these are funds that are essentially built as both a higher yield alternative to a savings account and a more liquid alternative to buying bonds or CDs.
The logic here is that while these types of funds are very similar to sitting in cash in a savings account in terms of availability, they have much higher yields than savings accounts in terms of interest earned. And while they produce a similar return to buying CDs and Bonds, they don’t require the lock-up period those fixed income investments do.
In fact, fees aside, these types of funds tend to pay out 100x – 300x+ higher rates than savings accounts and generally only require about a 24 hour wait to move your cash back into your checking/savings.
In terms of yield, consider (here today in late Jan 2019),
- A basic Chase savings account pays 0.01% interest annually (rate subject to change). <— Savings Account
- The JPMorgan U.S. Government Money Market Fund (OGVXX) pays about 2.3% interest annually (rate subject to change). <—- Mutual Fund
- The JPMorgan Ultra-short Income ETF (JPST) pays about 2.95% interest annually (rate subject to change). <—– an ETF that mimics a money market mutual fund
In other words, fees aside, OGVXX pays 230x more than a basic savings account and JPST pays nearly 300x!
That is a pretty good deal! That said, there are many considerations:
- Different fixed income investments pay out at different times. Depending on what investment you choose the timeframe in which you get paid interest can change. In generally accounts will pay a monthly interest payment (even if interest accrues every 7 days on paper, for example in a 7 day sweep account, it could be paid out every month). Make sure to read the fine print so you can understand how often you lock in your interest owed and how often you are paid out.
- Some Bonds and CDs have higher yields than funds and lower risk. While some bonds and CDs have higher yields, bonds and CDs require your money to be locked up for the duration of the investment (which could be months or years). Thus if you want your money liquid (like cash) you are likely better off buying into a fund that buys bonds and CDs (like the ones we are discussing).
- There are different types of funds that buy/sell different types of assets. Some funds are designed to be price stable, and some aren’t. Generally funds that are less stable, have higher yields. If you want some extra risk, you can check those out. The reality is there are many different types of funds.
- Some funds accrue interest tax free and some money market accounts have limited check-writing ability (meaning they also work as an alternative to checking accounts in some respects). In words, you’ll really want to shop around for the right sort of interest bearing account for your needs. TIP: In general there are trade-offs for perks. Perks an account offers, like limited checking or tax exemption, generally come at the cost of interest earned, fees, and other stipulations like transactions limits. Consider, a basic money market account that funds are automatically swept into (a sweeps account) may have a return rate of 0.1% while a money market mutual fund you have to manually put funds in might have a 1.7% return. Also, tax-free accounts may have higher minimum limits.
- With all these funds, there is a drawback in not having your money readily available at any moment. You need to wait for orders to settle, you can’t access your funds while your broker isn’t open, you have to follow the rules of the funds (you may pay fees under certain conditions for selling shares of the fund), etc. In a true emergency, a savings account is far more liquid than a mutual fund.
- All funds have fees of some sort, and many have stipulations, so make sure to read the documentation (called a prospectus). Sometimes you will be charged fees to buy/sell a fund by the fund (fees for mutual funds and ETFs can be different; the fee to buy/sell a mutual fund is generally called a “load fee”… your broker may wave the load fee, or the fund may not have a load fee; with ETFs your broker sets the fee). Sometimes there will be penalties or stipulations for accessing mutual funds at certain times (you may have to wait 90 days, or you may be charged a fee if the fund is struggling). Fees can eat into returns. You need to understand the fees before you make the investment. When in doubt, look for a fund with no load fee. IMPORTANT: If you don’t have a ton of money, fees paid to your broker to make a trade can offset any gains you would make by keeping your money in a fund for a short time. Please do the calculation before buying/selling anything. If you can get your broker to waive your fees, for example by depositing a certain amount or by choosing a broker offering a deal to new customers, consider doing it.
- Mutual funds are traded at the end of the day at their Native Asset Value (NAV), so orders can only trigger once a day, and the next day the order is settled. ETFs trade all day during the trading day at market price, then once the trade is executed it needs to be settled. Make sure you understand the difference in fund types before making a choice.
- These funds are not FDIC insured (unlike your savings account). Instead, these funds are privately insured.
- Some mutual funds have minimum limits for investing, others don’t. The best yield funds tend to have the highest limits.
- Generally there are a number of risks (and I can’t cover them all). These funds are designed to be low risk, but there are risks (ex. if the government stops repaying its debt, bonds from that government become worthless). Make sure to read the documentation and understand the risks before you invest.
Bottomline: Ultimately you’ll need to do some research or talk to your broker, but the gist is, there is a fund out there that will net you a way higher yield than your savings account.
How to Buy Into a Mutual Fund: You buy mutual funds via a broker. Most major banks also have a broker. For example Chase is a bank and JPMorgan is a broker. So, sticking with our example above, if you are a Chase customer, all you do is open up a brokerage account with JP Morgan, transfer your savings account money (that you can stand not to be able to access immediately) into that, put in a buy order for OGVXX after that transfer has settled, and then kick your feet back and enjoy your new interest rate.
How to Buy An ETF: Same deal as a mutual fund, just fill out the stocks order form instead of the mutual fund order form.
What is in it for the fund? The trade you are making with a fund is 1. your cash provides them liquidity, 2. they get fees for managing the fund, and 3. you get a way better return than with a savings account. It is win-win.
Finding the right bank / broker and asking questions: If you bank with a major bank, you can just call your bank and ask them questions. They can set you up with the broker they work with. Then the broker will explain your fund options. If you bank with a smaller bank, you can just use any broker who banks with a major bank. I don’t want to suggest banks and stock brokers here, but you can just Google “list of banks” and “list of brokers” if needed.